Written by

Akrur Barua

Published

January 22, 2014

In November 2013, Typhoon Haiyan hit the eastern part of the Philippines, leaving thousands of people dead and nearly a million homeless. Although lost lives cannot be regained, the Philippines’ economy thankfully appears ready to absorb the losses of Haiyan and regain momentum in 2014, with strong growth in the first three quarters of 2013. Aiding this recovery will be healthy external balances, a manageable deficit, and low inflation.

Strong growth in Q3 2013

Real GDP grew a strong 7.0 percent year over year in Q3 2013, although the figure was marginally lower than growth in the first half of the year. While growth in government spending slowed, there was encouraging news from three key segments: private consumption, investments, and exports. Private consumption grew 6.2 percent year over year on the back of strong consumer confidence, gains from low inflation, and low interest rates. The last factor has contributed to investment—business and residential— rising as well. Public investment in rail networks, highways, and ports has also aided overall economic activity. However, the brightest spot in Q3 2013 was exports. After a disappointing performance in the first half of the year, goods exports picked up pace in Q3 2013, with August recording a rise of more than 20 percent year over year. Although growth dipped in September, figures for October point to a 14.0 percent rise during the month. This indicates improving external demand and augurs well for the economy in the medium term, especially with growth in key Western markets likely to rise.

Medium-term growth outlook strong despite Haiyan

Official estimates put the total typhoon damage at about $14.2 billion, with GDP growth set to dip to anywhere between 4.1 and 5.9 percent in Q4 2013. However, this is likely to be a temporary setback, with the economy expected to benefit from reconstruction activity from 2014 onward. The government has already allocated about $3.3 billion for reconstruction activity, and international financial assistance also has been flowing in. As a result, fixed investment will grow about 10–12 percent this year before dipping to a more sustainable 7–8 percent in 2015–18.

Meanwhile, private consumption will remain strong due to expected nominal income gains, high consumer confidence due to a fast-growing economy, and rising inflows of remittances as the West recovers. All these factors will keep private consumption growth at about 6–7 percent during 2014–18. Exports are also expected to strengthen as growth picks up in the West and strong demand from Japan continues. Exports will further benefit if the Philippines’ negotiations with the European Union on the latter’s expanded preferential tariff program succeeds. Any such deal would lower tariffs and remove duties on certain exports to the European Union up to 2023. The only worry for exporters is perhaps slowing growth in China. However, any such slowdown will not be enough to prevent healthy real GDP growth of 6–7 percent in the Philippines during 2014–18.

Healthy fiscal and external balances

Public finances will remain healthy despite a 15 percent rise in budgeted spending in 2014 for post-typhoon reconstruction activity. The fiscal deficit is expected to rise but is not likely to go below 2 percent of GDP during 2014–15. This is because revenues are expected to go up as the economy continues to grow, while efforts to make tax collection more efficient will start to bear fruit. Meanwhile, on the external balances front, strong growth in services exports and high remittances is expected to offset both a rise in import demand for capital goods as well as the outflow of funds due to repatriation of profits by foreign investors. Overall, the current account is expected to remain in surplus (1–2 percent of GDP) in the medium term. This, in addition to a vibrant economy and the Philippine peso’s relative stability compared with other emerging-economy currencies, is likely to make investing in the country more attractive.

Monetary policy to remain accommodative

In December 2013, the Bangko Sentral ng Pilipinas (BSP) kept its key policy rate (reverse repo) unchanged at 3.5 percent. This was not unexpected given that inflation is still within the BSP’s 3–5 percent target. However, there are concerns that inflation will edge up as agriculture in typhoon-hit provinces suffers, thereby driving food prices higher. This was evident in December when inflation hit a two-year high of 4.1 percent. Meanwhile, import prices are also expected to rise this year as the US dollar gains due to the Fed’s asset purchases program winding down. Despite these concerns, inflation is not likely to breach the BSP’s upper target in 2014, although it will be higher than the 2013 average figure of 3.0 percent. Any impact of the typhoon on inflation will be one-off and will dissipate by the second half of 2014. Given the inflation scenario, the BSP is not likely to change its easy monetary stance this year. Nevertheless, it could hike the policy rate by 25–50 basis points in the second half of 2014 if broad money (M2) growth continues to be as high as in the second half of 2013.

Any impact of the typhoon on inflation will be one-off and will dissipate by the second half of 2014.

Need to address challenges

In the medium term, the economy faces a number of challenges. First, the share of public investment in GDP is low (2 percent) relative to the Southeast Asian average (5 percent). Encouragingly, the government is trying to rectify this by hiking infrastructure spending and aims to reach the 5 percent mark by 2016. Second, as President Benigno Aquino nears the end of his term (in 2016), he will have trouble pushing through economic and political reforms, especially any peace deal with the Moro Islamic Liberation Front. Third, the government has to do more to encourage small and medium enterprises, where more than 90 percent of the labor force is employed. This is especially crucial given high unemployment and underemployment. Linked to the encouragement of small and medium enterprises is the need for businesses to move up the value chain to attract investors and compete with other emerging economies—which will be crucial when the ASEAN free-trade area comes into force in 2015. How the government and businesses respond to these challenges will determine the country’s economic fortunes.